The flexibility of options trading provides market participants a wide array of strategic opportunities. It truly doesn’t matter if you’re bullish, bearish, or neutral toward the markets ― options allow you the flexibility to gain exposure any way that you see fit.
Let’s take a look at four options strategies that can help you achieve your financial goals.
Covered Calls and Married Puts
Covered calls and married puts are options strategies designed for traders who wish to generate extra income while taking an active bullish or bearish position in the market. To execute these strategies, a trader first opens a new long or short position in a desired futures market. Once the new position is opened, the trader then sells out-of-the-money calls or puts facing the same futures product.
Assume that it’s May, and Oliver believes that the price of WTI crude oil is due to rally over the summer. To capitalize on the bullish sentiment, Oliver executes a covered call:
- First, Oliver purchases one lot of CME September WTI crude oil at the current market price of $25.00 per barrel.
- Oliver believes that WTI is unlikely to reach $35.00 by September. Accordingly, out-of-the money September WTI call options are sold with a strike price of $35.00. Oliver realizes an immediate cash gain produced by the $1.00 premium.
- The new break-even point for the long WTI futures position is $24.00 ($25.00 – $1.00). If price falls beneath this level, calls with lower strike prices may be sold to mitigate losses.
- Oliver’s maximum profit on the trade is the difference between the September WTI futures entry price and the options contract strike, $10,000.00 (($35.00 – $25.00) * 1,000).
Conversely, a married put options trading strategy could be executed by shorting September WTI and selling an out-of-the-money put. With this tactic, Oliver collects an up-front premium, establishes a break-even point, and benefits from falling WTI prices as well as options time decay.
Bull Call and Bear Put Spreads
Bull call spreads and bear put spreads are options trading strategies that allow participants to reduce the up-front cost of taking an active position in the market. By buying and selling options facing the same underlying futures contract, a trader can reduce the premium required to open a new bullish-bearish position.
To illustrate the strategic functionality, let’s take a look at the structure of a bear put spread for gold. Assume that Erin believes that bullion will fall from the current levels ($1,750.00) ahead of the new year. The following bear put spread is executed to get in on the action:
- Erin purchases one December gold put option with a strike price of $1,700.00. The associated premium cost totals $10,000.00.
- Simultaneously, Erin sells one December gold put option with a strike of $1,550.00. A premium of $2,500.00 is collected.
- Erin’s max risk is the total premium paid, $7,500.00 ($10,000.00 – $2,500.00).
- Erin’s maximum profit is the difference in strike prices minus the premium paid, $7,500.00 (($150.00*100) – $7,500.00).
If Erin had a positive view toward bullion from the current market price of $1,750.00, a bull call spread could be a viable options trading strategy. To execute, Erin buys a December gold call with a strike price at $1,800.00; simultaneously, Erin sells a December gold call with a strike of $2,000.00.
The beauty of bull call-bear put spreads is that potential profits and losses are fully quantified. This makes them great tools for aligning risk to reward and boosting capital efficiency.
Is Options Trading Right for You?
From shorting WTI crude oil to going long the S&P 500, options trading offers traders many opportunities. In reality, the four strategies mentioned above are just the tip of the iceberg. There are many others, including straddles, strangles, and butterfly spreads. If you have an opinion on the markets, rest assured that there’s an ideal options strategy waiting to be put into play.
To learn more about the ins and outs of options trading, check out Daniels Trading’s online Futures and Options Strategy Guide. Featuring 21 battle-tested strategies, it’s a go-to resource for anyone interested in understanding the nuances of futures and options.